Chapter 17

Handling Post-Closing Announcements and Adjustments

In This Chapter

Disclosing a sale to employees and the media

Tackling post-closing adjustments and contingent payments

Covering breaches and escrow claims

Just because the deal is closed doesn’t mean all the work is done. You need to announce the deal to employees and to the rest of the world. And in most cases, both Buyer and Seller have to continue to interact with each other on some level for some period of time after the close.

In this chapter, I introduce you to the wonderful world of post-closing issues, including informing employees about the deal, making media announcements, taking care of the post-closing adjustments, addressing any contingent payment, working through breaches, and handling escrow.

Start Spreading the News

Following the close of the deal, the first order of business for many deal-makers is to announce the deal. Make the announcement to employees and the media as soon as possible after confidentiality no longer prevents you from talking about the deal.

Despite the best efforts of all involved in the sale process, rumors of a sale will have undoubtedly spread. Therefore, Buyer and Seller alike should immediately take control of the information release in order to disseminate accurate information. Keeping quiet can breed ambiguity, and ambiguity is no one’s friend. Don’t let further rumors fly.

Telling Seller’s employees about the deal

Employees are an important stakeholder in any business, and they deserve to learn about the sale as soon as possible; Seller’s employees probably want to know the identity of the new boss! Buyer and Seller both need to address Seller’s employees. Those disclosures often occur at separate times, but depending on the specifics of the deal, both parties may want to coordinate efforts and make the announcement at the same time.

Sellers: Informing the employees

When I say employees should learn about the sale as soon as possible, I mean the same day the deal closes! Stat! After the papers are signed and the wire transfers clear, you should assemble the employees (if in one location) and make the announcement. If the closing is finalized after hours, tell the employees first thing the following morning. The key is to control the message and make sure you’re the one delivering it. If employees are going to hear the news, better they hear official and accurate news from their leader than unofficial and potentially inaccurate secondhand innuendo (masquerading as news from fellow employees).

Don’t wait until all the employees are present. Invariably, someone will be at a sales meeting, out of town, or out sick. Letting the genie out of the bottle and telling some of the employees now is better than waiting a day or two until you can tell all of the employees.

If the company has multiple locations, do your best to assemble as many people as possible and have other locations join by conference call. If a conference call isn’t feasible, direct managers in the other locations should deliver the news as soon as possible.

Be sure to keep the proceedings positive. Selling a business can be a very emotional time; after all, owners often view their employees with a parental eye. Expressing and displaying emotions is wholly appropriate, but don’t let the meeting become downcast. The announcement should focus on what the employees and new owner will be able to do in the future and not be a pity party for you the Seller as you move on to the next phase of your life. A positive and uplifting message helps eliminate ambiguity and hopefully creates excitement and amity between the employees and the new owner.

Don’t bad-mouth the new owner. Be gracious, supportive, and encouraging, and remind the employees that the new owner can take them to the next level. Focus on moving forward; refrain from dredging up times of yore and refighting past battles, especially if the negotiations and sale process with the Buyer were difficult and arduous. Take the high road: Act like a responsible leader as you hand the baton to the next leader.

Buyers: Making a good first impression

If you haven’t coordinated with the Seller to make the announcement together, I highly recommend getting in front of the employees as soon as possible; no more than a few days should elapse between the deal closing and your meeting with the employees.

Before meeting with the employees, take the time to understand the local culture of the company. The way you and your colleagues do things may be different from the approach of the people at the newly acquired company. Seek out someone who has lived in the area and ask for some insights about the local culture. You don’t want to pander to the employees, but you do want to demonstrate that you are aware of their customs and ways of doing things. Showing that you’re cognizant of someone else’s views, opinions, and sensibilities is a great way to begin building a relationship.

When speaking with the employees, act like a leader at all times because you’re going to be under a microscope. Although talking about your plans for the company is permissible and encouraged (even if those plans differ from the previous owner’s plans), refrain from bad-mouthing the former owner. However, don’t go overboard and become cloying in your comments, either. Don’t dwell on the past too much. Move forward and focus on the future.

Business deals often succeed or fail based on how well an owner is able to connect with the employees. Demonstrating that you are a relaxed, confident, friendly leader with a sense of humor requires walking a fine line. You don’t want to be a stiff, jargon-spouting automaton, but you also want to avoid going overboard and becoming overly familiar. Some people have that innate ability to connect with people and others don’t, so walking that line may be more difficult for some.

Check out Chapter 18 for more on combining the companies post-sale.

Making a media announcement

After the deal closes, the sale can become public information. Usually, the Buyer controls news releases; in fact, the purchase agreement may define how to disseminate the information to the media.

Refer to the purchase agreement and any confidentiality clauses that may prohibit you from speaking about the deal. Speak with your attorney if you are uncertain about what you can and can’t say about the deal.

Typically, Buyer decides how much information to release to the media. Private companies making acquisitions of other private companies usually don’t furnish the media with specifics such as revenues, profits, and price paid. Executives with public companies should consult with their advisors before making any written or oral public statements about the deal.

Announcing an acquisition can be a great way for a company to garner some free publicity.

Following Through: The Deal after the Deal

Very rarely do Buyer and Seller conclude a deal, walk away, and never interact again. Even though Seller has his money and Buyer has her company, the two sides usually have some post-closing issues to conclude. The following sections walk you through some of those matters.

Closing the loop on post-closing adjustments

One of the first items that need wrapping up after the deal closes is the post-closing adjustments. The closing day balance sheet often involves some guesswork, and the actual balances may not be available until a few weeks go by. Usually 30 to 90 days after closing, Buyer presents an actual balance sheet as of the closing date to Seller. The parties compare this balance sheet to the estimated balance sheet presented at closing and true up (adjust) any differences in working capital.

In most cases, the adjustments are relatively small in relation to the purchase price, and most adjustments can be made by adding or subtracting money from the escrow amount.

However, depending on how the purchase agreement is worded, one side may have to write a check to the other side. Buyer is usually the one writing the check; Sellers usually insist on having any downward adjustments made to the money in escrow rather than paying them out of pocket.

Wrapping up the contingent payments

Depending on the deal, contingent payments such as earn-outs, Seller notes, and Buyer stock may be part of the Seller’s proceeds. In the following sections, I provide information on following up on these payments. Chap-ter 12 discusses the various contingent payments in more detail.

As a Seller, stay on top of a Buyer’s obligation to you regarding contingent payments. If the Buyer owes you information about an earn-out or misses a payment on a note, speak with your legal advisors about the best course of action. I don’t advocate being litigious, but you may have to sue if you exhaust all other options.

Maximizing the earn-out

Earn-outs can be the trickiest of all contingent payments. Seller is trusting Buyer provide necessary and accurate documentation regarding the specifics of the earn-out. The key to the earn-out is how it’s crafted and defined in the purchase agreement (see Chapter 15). Simplicity is the best course of action; avoid using a complex formula for calculating the earn-out. The more complex the earn-out, the more calculations involved and the greater the chance Buyer and Seller will disagree.

For Sellers, the best chance at influencing the earn-out occurs if they remain with the company as an employee and have a direct impact on the earn-out metrics. For example, a Seller can impact an earn-out that’s based on top line revenue if he stays employed in a sales position. But if the Seller is leaving the company after close, he probably has little or no control over the earn-out.

Collecting the note

If Seller agrees to accept a note, he becomes a creditor of the company, and Buyer is therefore legally obligated to pay that note (as opposed to an earn-out, which she may not have to pay if the company doesn’t meet the metrics). Sellers should make sure the Buyer’s books officially record any note.

As with an earn-out, a note is only as good as what you negotiate in the purchase agreement.

Dealing with the stock

The ability to sell stock received in an M&A transaction depends on a few factors: where it trades, any restrictions on selling it, and its liquidity or trading volume.

If the stock Seller receives is with a publicly traded company, he can sell the stock on the exchange where it trades after any restrictions are removed from the stock.

If Seller accepted stock in a private company, however, his ability to sell the stock may be limited. Not only may a market not exist for the stock, but Seller may also be expressly prohibited from selling the stock even if he could find someone to buy it.

Dealing with Disputes

If the post-closing matters in the earlier “Following Through: The Deal after the Deal” section proceed without incident (no breaches of representations or warranties, no claims to escrow), the escrow agent releases the escrow money to the Seller at the appointed time.

However, some deals don’t proceed in an orderly and uneventful post-closing fashion; Buyer and Seller may have disputes. In the following sections, I give you some guidance on taking care of breaches and disputes that may arise after the deal closes.

A purchase agreement that doesn’t lay out the process of adjudicating a disagreement is almost certainly inviting problems. Head to Chapter 15 for more on squaring away the purchase agreement.

Handling breaches

Breaches (in other words, post-closing disputes between Buyer and Seller), come in three basic flavors: violation of noncompete and non-solicitation agreements, discrepancies with working capital, and breaches of reps and warranties. The following sections delve into these issues.

Violations of the noncompete and non-solicitation agreements

One of the biggest concerns a Buyer has is that the Seller will take the money from the sale and open a competing business across the street, perhaps even hiring (or attempting to hire) employees now working for the Buyer. Because of these concerns, most purchase agreements contain noncompete agreements preventing Seller from opening a competing business in a certain defined geographic area for a certain defined amount of time, as well as non-solicitation agreements barring Seller from hiring or trying to hire Buyer’s employees.

If you as a Buyer suspect a breach of these agreements, speak with your attorney. The typical course of action in these cases may include going to court and obtaining a temporary restraining order.

Sellers, don’t forget that Buyers effectively derive a portion of the purchase price from the noncompete agreement. Essentially, Buyer is paying you not to compete, so breaching this agreement may affect your valuation.

Discrepancies with working capital

As I note earlier in the chapter, M&A parties make adjustments to the purchase price a few weeks after closing, after the Buyer has an updated balance sheet for closing day. Sometimes, this balance sheet can be a source of disagreement between Buyer and Seller because the Buyer’s calculations don’t match what the Seller promised. In particular, working capital (the difference between quickly convertible assets, such as accounts receivable and inventory, and the bills that are due within 30 days, such as accounts payable) commonly creates disputes.

Some typical areas of dispute between Buyer and Seller include

Bad debts reserve: Buyer may claim Seller didn’t set aside a sufficient reserve against bad debts. In other words, the value of the accounts receivable wasn’t as high as Seller claimed at closing.

Inventory valuation: Buyer may claim Seller overvalued inventory and/or kept unsalable inventory on the books. Writing off inventory reduces a company’s earnings, and if the valuation was based on some measure of earnings, Buyer could claim she overpaid for the business.

Failure to record liabilities correctly: Often, Buyer may claim Seller didn’t properly record employees’ accrued (that is, unused) vacation.

If Buyer disputes the value of working capital and asks for a substantial post-closing adjustment, Seller may have to live by the terms of the purchase agreement. This situation can be costly for Seller; a Seller in this predicament should consult with his attorney.

The Buyer’s post-closing working capital calculation can be a classic “Seller beware” moment. An aggressive Buyer may create some issues by claiming Seller didn’t properly account for certain assets or liabilities.

Balance sheet discrepancies may be due to changes in accounting software and treatment. A Seller may use a relatively simple off-the-shelf accounting package and a local accounting firm. A Buyer, often larger and more sophisticated than a Seller, may use a far more robust accounting program and may employ one of the big-time accounting firms (colloquially referred to as the Big 4). This difference in sophistication can lead to a discrepancy in results.

Breaches of representations or warranties

In a typical purchase agreement, Seller provides Buyer with a slew of promises known as representations (reps) and warranties (see Chapter 15). A breach occurs when Buyer disputes one of those reps or warranties. Essentially, Buyer is claiming, “The business wasn’t as I thought it was.”

Common disputes can include undisclosed pending litigation, financial statements with mistakes or omissions, an undisclosed material liability (such as a large unpaid bill of the company), and illegal immigrant employees.

If Buyer claims a breach of a representation or warranty, she usually makes a claim to money held in escrow (see the following section). But escrow is only Buyer’s first recourse. If the breach is egregious enough, Buyer may end up suing Seller.

The purchase agreement defines Buyer’s recourse. If Buyer suspects Seller of breaching the purchase agreement, Buyer should immediately speak with her attorney.

Making claims against escrow

The myriad representations and warranties Seller provides Buyer in the purchase agreement forms the basis of what, if anything, Buyer can claim against escrow. In other words, if something Seller says is inaccurate or false and causes harm to Buyer, Buyer can make a claim and recoup money from the escrow account.

If Buyer discovers a problem or suspects a breach by Seller, Buyer usually informs Seller, and Seller has some amount of time to either reimburse Buyer for the damage or to contest the damage. If Buyer and Seller are unable to settle the issue, the issue may go to court.

The purchase agreement lays out the process for Buyer to make claims against escrow as well as the recourse for Seller to dispute those claims. Consult with your attorney about how best to proceed with making a claim against escrow or disputing a claim.